The Fuse

OPEC’s False Narrative

by Matt Piotrowski | September 26, 2017

The oil market continues to heat up, thanks in large part to OPEC restricting supply to drain inventories and increase prices. ICE Brent surged above $59 per barrel on Monday, the highest trade since July 2015. Hedge funds and other investors have boosted their number of bets on higher prices, global demand is growing faster than expected, and OPEC members have followed through with their pledges to reduce output. The market has also received a lift amid threats from Turkey to shut oil shipments through its country as the Kurds vote for independence.

OPEC is trying to spin recent price developments to show that it is fostering steadiness in the market in an effort to assist both consumers and producers.

Last week in Vienna, the Joint OPEC-Non-OPEC Ministerial Monitoring Committee (JMMC) touted the cartel’s “excellent” compliance of 116 percent for August, the highest monthly average since the agreement to cut output by 1.8 million barrels per day (mbd) began in January. The committee also highlighted how OECD commercial stocks have fallen sharply this year, and the cartel would like to see them decline further. This objective signals that OPEC will likely extend production cuts beyond the March 2018 deadline when it meets in late November in Vienna. Secretary-General Mohammad Barkindo told a conference in Singapore on Monday that the cartel will continue with its agreement until the market is balanced.

OPEC is trying to spin recent price developments to show that it is fostering steadiness in the market in an effort to assist both consumers and producers. “All options are left open to ensure that every effort is made to rebalance the market for the benefit of all,” the JMMC release said.

It’s a nice narrative, but even though OPEC may have stewarded the market into a window of apparent stability, the broader context of its behavior has destabilized the market. The oil market has gradually marched higher since the middle of June, rising by about 30 percent. In the short run, prices may strengthen even more. Tighter fundamentals and OPEC’s likelihood of extending its supply reductions are motivating speculators to bet on higher prices, while some analysts see a “breakout to the upside” as a strong possibility.

OPEC’s production agreement, its attempts to jawbone prices higher, ongoing geopolitical instability, fickle investor sentiment, and strengthening global demand sow the seeds for future market turbulence.

But the oil market also risks a sharp reversal. In the U.S., the rig count has dropped by 24 in the past six weeks. With U.S. crude prices rebounding above $50, companies will likely reactivate idle rigs, spurring an increase in shale output. Globally, non-OPEC supply is forecast to rise by 1.35 mbd in 2018, according to the Energy Information Administration (EIA), offsetting more than two-thirds of the supply cut. OPEC also has to deal with Libya and Nigeria, two members that are not subject to quotas and may continue to increase production. A shift in sentiment and fundamentals will likely precipitate an investor selloff, puncturing prices and causing even more volatility. OPEC has to contend with one other major factor—U.S. crude exports to Asia. U.S. sellers have made large inroads in Asia this year, challenging OPEC’s market share in the region. Although Middle East producers and Russia are still expected to dominate the Asian marketplace for years to come, the flexibility of U.S. producers and favorable economics have the potential to undercut OPEC’s strategy.

U.S. sellers have made large inroads in Asia this year, challenging OPEC’s market share in the region.

Recent talk of a more balanced market or stability in prices creates a false narrative—OPEC’s resurgence has spurred greater uncertainty in the market. OPEC’s production agreement, its attempts to jawbone prices higher, ongoing geopolitical instability, fickle investor sentiment, and strengthening global demand sow the seeds for future market turbulence.

 

ADD A COMMENT